Fixing Proposition 13

Even people outside of California have heard about proposition 13, the tax-revolt referendum which, exactly 29 years ago, changed the property tax law so that one’s property taxes only go up marginally while you own a property. Your tax base remains fixed at the price you paid for your house, with minor increments. If you sell and buy a house of similar value (or inherit in many cases) your tax basis and tax bill can jump alarmingly.

The goal of Prop 13 was that people would not find themselves with a tax bill they couldn’t handle just because soaring real estate values doubled or tripled the price of their home, as has often taken place in California. (Yes, I can hear your tears of sympathy.) In particular older people living off savings were sometimes forced to leave, always unpopular.

However, there have been negative consequences. One, it has stopped tax revenues from rising as fast as the counties like, resulting in underfunding of schools and other public programs. (This could be fixed by jacking up the rates even more on more recent buyers of homes but that has its own problems.)

Two, it generates a highly inequitable situation. Two identical families living in two identical houses — but one has a tax bill of $4,000 per year and the other has a tax bill of $15,000 per year, based entirely on when they bought or inherited their house. I would think this is unconstitutional but the courts said it is not.

Three it’s an impediment to moving (as if the realtor monopoly’s 6% scam were not enough.) There are exemptions in most counties for moves within California by seniors.

Here’s my fix: Each house would, as in most jurisdictions, be fairly appraised, and receive a tax bill based on that. Two identical houses — same tax bill. However, those who had a low basis value in their home could elect to defer some of that bill (ie. the difference between the real bill and their base bill derived from the price they paid for their home) until they sold the home. There would be interest on this unpaid amount, in effect they would be borrowing against the future equity of the home in order to have a lower tax bill.

What this means is that nobody is forced out of their home because their tax bill goes up, just as Prop 13 wanted. However, people who do this are now participating less in the appreciation of the value of their home. Don’t pay tax on the extra value — don’t get to receive all of it. When you sold, the back taxes would be paid out of the purchase price, due to a lien on the home. A first-in-line lien.

Now of course it’s possible that house prices could soar up, and then fall back down again. This could even result in the unpaid tax debt matching or exceeding the appreciation of of the home’s value. The law could be designed so that the county simply eats the excess so that nobody actually finds themselves unable to pay off their mortgage because of the tax debt. Other taxpayers would have to make up for this of course.

Now it is important to realize that since the counties could now be booking all this tax revenue they currently don’t get, they could and should lower the overall tax rates to make this change revenue neutral. So in fact where you might have one house with a $4,000 bill and another with a $15,000 bill, this might change to one house that fully pays a $10,000 bill and another that pays $4,000 and adds $6,000 in debt every year, because that brings in the same money. (The actual ratio depends on an analysis of how many houses have old rates and how many have new, and would even vary with time.)

However, a revenue neutral adjustment would not be cash flow neutral. Counties would get the unpaid taxes only when houses sold — in some cases decades in the future. Eventually this would balance out, but they might have to collect slightly more at first, then lower it over time. In my dreams, even to less than they need once the outstanding debts are being paid, but knowing tax collectors, this won’t happen. But it will still be better than it is today.

But cutting the tax bill for the more recent purchasers, such a law change would be popular with them, and of course unpopular with those getting the free ride. Which, by the way, includes me. My property taxes are half of what they would be based on the value of my home. (Though I am also contemplating selling, in which case such a law change would switch from hurting me to helping me.) But mainly I think we should fix this unfair and arbitrary system so that people in the same situation shoulder the same tax burden. I believe there may even be some jurisdictions doing a form of this, since all high-growth areas come upon the same problem in time.

Now, it has been suggested that if the interest rate were reasonable, everybody would defer their taxes, and I agree that’s likely, and perhaps not even too troublesome. It just pushes the cash-flow problem a bit. To tweak that, the interest rate could be raised to make deferment something done only if you otherwise would be forced out of your home, though that might penalize the stupid who frankly are notoriously bad at deciding about borrowing money — they will do it if anybody says yes. Other disincentives are possible. There is also a problem with inheritance. The heirs can elect to pay off the debt (unlikely) or keep it, however if they were not living in the house it may also make sense to force them to pay it off at that point. It could also make sense that they need not pay off the debt, but would no longer be able to underpay the taxes and accumulate more debt, to avoid the debt growing forever. It may also make sense to require some repayment of the debt with time in monthly payments, just not enough to force people out of their homes — possibly calculated based on income, so that if you were a high-earner in a home bought decades ago, you would have to pay off the debt and bring up your payments before you sold. Accountants could work out numbers to raise revenues and not force people out of homes.

could also do away with the property tax and go with a straight income tax. Several states do this already.

As long as the deductions are kept to a minimum tax forms are easy to fill out (contrary to flat taxers claims, it isn't the progressive levels of an income tax that makes taxes hard to do -- it's the 10 million deductions that make them hard.)

That it stopped spending from rising as fast as the counties like was the whole *point* of Prop 13. There's no reason why local government spending should need to increase at anything like the rate of property appreciation. If you capped the rate of local spending growth the way Prop 13 caps the rate of tax growth, that would solve the disparity issue more simply.

Though there are some factors to balance. People buying million dollar homes do expect more from the local government -- and might even be willing and able to pay more -- but I agree it's not truly in ratio to the appreciation. Prop 13 was driven by the people who found they had $400,000 homes they had paid $40,000 for who quite reasonably did not want to be saddled with 10 times the tax bill. Saddling it all on people who move or inherit was the wrong answer, though. And yes, there should be an independent cap on the local government revenues, perhaps to follow some COLA-plus/portion of real estate values rule by default, with adjustment by voters when needed, and that revenue should be divided evenly based on the value of property serviced and protected.

There are arguments for and against the existence of property tax. On the one hand, to the extent that it pays for protection of property against fire, crime and the like it makes sense to pay according to how much property one has. Paying for education, we've decided, will not be based on how many children one has, so it could be based on anything -- property, income, you name it.

One problem cities have is that a significant part of the population doesn't actually own property in the city. They just come there to work, but they expect the police to show up if their car is stolen. I don't think the property where they happen to be working should have to foot that entire bill. An income tax based on where the income was earned fixes that.

I currently pay 3 income taxes (and one property tax) -- city, state and federal. The city one has no deductions and since I work in the city my employer auto-deducts it. If I worked out of the city, but lived in the city I would have to fill out a 1/2 page form and send it in.